How Putin is losing in Crimea: A reality check

A funny thing happened on March 21: Russia lost a war and virtually no one noticed.

On that day, at the same time Russian President Vladimir Putin was signing a treaty finalizing the annexation of Crimea, Ukrainian Prime Minister Arseniy Yatsenyuk was putting his own signature down: on a partnership pact between Ukraine and the European Union (EU).

It was precisely this agreement — and the refusal of former Ukrainian President Viktor Yanukovych to sign it — that led to the bloody demonstrations in Kiev that forced Yanukovych from power and spurred Russia’s seizure of Crimea.

It’s the kind of trade that looks bad for Russia on the surface — and will only look worse in the future. Russia’s political influence in Ukraine and its dreams of creating an economic union to compete with the EU lies in tatters. Rather than push the U.S. and EU away from his western border, Putin’s actions have practically invited them in by strengthening the bonds between Kiev and the West. It is yet another reminder that Putin’s decision to seize Crimea, rather than serve as a triumphant moment, is far more likely to end up a disaster.

Economic costs

While Putin clearly imagines Russia to be a great power, the country is a hollow shell of its former self, with waning political and military influence and an economy that is teetering on the brink. Higher inflation, a weakening ruble, huge capital outflows and a lack of economic reforms contributed to a major slowdown in the growth rate last year — from a projected increase of 3.6 percent to a mediocre 1.3 percent clip. The Crimea crisis will only add to these economic woes.

A recent World Bank report makes clear that even in a best case scenario, Russia will be treading water economically for the near future. The bank’s worst-case scenario is, well, a lot worse — a contraction of 1.8 percent for 2014.

The near-term indicators are certainly alarming. The ruble remains in decline (down 9 percent for the year), the stock market has dropped by 18 percent, and money can’t find its way out of the country fast enough. According to the nation’s economy minister, Alexei Ulyukayev, as much as $70 billion left the country in just the first quarter of the year, and if that number reaches $150 billion, that projection of a nearly 2 percent contraction will become a reality.

While sanctions are drawing the most attention — and contributing to the increasingly dire economic situation — they are actually the least of Russia’s problems.

The far bigger one is that major financial institutions like Deutsche Bank are recommending that their clients keep their money out of Russia; two of the biggest ratings agencies, Standard & Poor's and Fitch, have downgraded Russia's investment rating from "stable" to "negative”; and even MasterCard and Visa are ending relationships with key Russian banks to avoid the snare of U.S. sanctions.

In the near term Russia is likely to be bypassed by international investors and multinationals. As a result, it will miss out on the sort of economic innovation that the country desperately needs to diversify its oil-reliant economy. It is small wonder that even Putin’s own deputy economy minister can’t deny the truth, that “the economic situation shows clear signs of crisis.”

Energy

Those oil reserves, which spurred Russia’s growth in the recent past, are no panacea either. Moscow is frighteningly dependent on oil and gas revenues. They represent a stunning one half of the country’s federal budget. And while European countries buy a disproportionately large share of Russian petroleum, their dependence is declining.

So if Russia were to try to use its oil and gas assets to flex its muscles and pressure European countries — as it has done in the past — the impact will not necessarily produce results. In the aftermath of Crimea — and even without further provocation from Russia — European countries may look to further diversify their energy use (even if moves like the U.S. increasing its exports of natural gas to Europe won’t have a serious impact for years) or even reverse recent decisions, like in Germany, to move away from nuclear power.

The reality is that Russia is far more dependent on selling oil and gas to Europe than Europe is on buying oil and gas from Moscow. If the Russians try to play hardball with European countries — in retaliation for sanctions — they will pay the biggest price. And with an economy already on the precipice of free fall, that’s hardly a choice that Russian leaders want to be making.

The even worse potential outcome is that irrespective of what Russia does, European countries may wake up to the reality that their dependence on Russian oil is also feeding Russian militarism — and respond accordingly.

Crimea

OK, so maybe things don’t look so great with the economy, but hey the Russians have Crimea — that must be worth something, right?

While the peninsula does offer some strategic benefits and certainly safeguards the Russian fleet that has been docked there since the end of the Cold War, Crimea might as well be the Russian word for “millstone.”

According to one analysis, Moscow could be looking at a bill as high as $20 billion over the next three years to fully integrate the peninsula into Russia.

Before annexation, 90 percent of Crimea’s water, 80 percent of its electricity and about two-thirds of its gas came from Ukraine. Eventually those supplies will need to come from Russia, which means new cables must be laid, and a bridge connecting Crimea to the Russia mainland must be built — along with new highways, airports and seaports.

Then there are more mundane public benefits. Crimea has long been one of the more dependent regions of Ukraine, with a majority of its budget subsidized by Kiev. Now Moscow will have to pick up the tab — at a price that could run as high $3 billion a year. Considering that nearly 30 percent of Crimeans rely on public pensions and another 10 percent are public employees, the region will likely be yet another one underwritten by the Russian government.

New passports need to be issued, currency will need to be converted, street signs changed, the legal and tax systems will need to be married. All of this will run the costs up even higher.

Ideally, Crimea would be able to offset some of these huge outlays, but while the region has some offshore reserves of natural gas, that's unlikely to have much of a near-term effect on the region’s budget woes. The peninsula’s main economic asset is tourism, and it’s hard to imagine many foreigners taking a fun-filled week of vacation there anytime soon.

Political costs ... or benefits

Even if one were to put aside the economic costs of Russia’s actions, there are the larger political costs.

G-8 membership: gone. Russia’s membership in the Organization for Economic Cooperation and Development: postponed. Relations with the West: in tatters. Russia’s international standing: hurting (a fact made even more evident by a recent U.N. General Assembly vote that saw only 11 states side with Russia’s annexation of Crimea). The glow from Putin’s $51 billion Sochi Olympics: extinguished.

And how much does Vladimir Putin care about this? Not much, actually.

For all the larger economic hits, political benefits for Putin are not to be underestimated. His personal approval stands at more than 70 percent, and across the Russian political spectrum his moves in Crimea have broad support.

Whatever political cost there is for Putin “underestimates the Russian ability to muddle through,” said Matthew Rojansky, director of the Kennan Institute at the Woodrow Wilson Center. “They are willing to sacrifice something in return for the right to return Russians to Russia.”

The fight over Crimea and in turn with the West also “serves an ideological and political benefit,” says Rojansky, by not only cultivating nationalist fervor but also proving Putin's longstanding argument that the West, and the U.S. in particular, is “fundamentally hostile” toward Russia and a “hypocritical force in international affairs.”

For all of the West’s denunciations of Putin, there is little it can do to reverse his actions or even fully punish him. With overnight reports of violent pro-Russian protests in three Ukrainian cities, Donetsk, Luhansk and Kharkiv, (and Russian efforts to raise gas prices on sales to Ukraine) it is a reminder that Putin has the potential to further destabilize the region. While Ukraine may have moved more into the Western orbit, Putin can still make plenty of trouble there.

Moreover, economic sanctions are well and good, but they will do limited damage to the eighth biggest economy in the world, especially when many countries are unlikely to go along with them.

In short, seizing Crimea plays to the political cheap seats, and the West’s reaction, rather than weakening Putin, works in his favor. From a narrow political perspective, Putin has likely won.

The problem of course is that Russian pride, while politically useful, won’t attract foreign investment, won’t convince Europe to continue its reliance on Russian oil and gas and won’t pay the bills in Crimea.

Once the immediate glow of Russia asserting itself fades, the Russian people will find themselves in a far worse place than they were when Crimea was safely ensconced in Ukraine. And while Russians in the past were willing — and often forced — to sacrifice, today’s Russia is a very different place with a growing middle class that doubled between 2000 and 2010.

Putin has long talked about creating an independent foreign policy separate from that of the West. He has pushed for Russian businessmen and oligarchs to keep their money in the country (something that international sanctions may actually help occur). And he has tried to create an alternative economic union to that of the EU.

But in a globalized economy that is lubricated by foreign investment and open trading borders and an international political system defined more by cooperation than old-fashioned power politics, the deck is stacked squarely against Putin’s experiment. Other countries may be as resentful of U.S. power as Russia is, but very few seem willing to back Moscow’s power play.

In effect, Putin is trying to roll back history and return Russia to a period when it was not only a great power but one that stood serenely and confidently outside the U.S.-led global system. If early signs are any indication, it’s a gambit that is likely to fail.